U.S. Regional Outlook: Local Recoveries Take Shape

View the Moody's Economy.com U.S. Regional Forecast. View the U.S. Recovery Status interactive map.

• The U.S. economy is stabilizing first in states where housing hadn't slumped severely.
• The industrial Midwest and West are faring the worst.
• Areas in the Plains states and South Central region will be the first to resume expanding.
• Sunbelt areas whose housing markets are still suffering acutely will recover slowly.
• The pace of financial reform and growth in emerging economies inject uncertainty into the U.S. regional recovery.

The U.S. economy is beginning to stabilize, and recovery is most evident from the upper Midwest through the farm belt and down to parts of the Gulf coast. The 11 states beginning to recover from recession account for about 10% of the country's employment and output—not a large part of the economy, just parts that have not suffered a deep housing downturn. Income growth remains vibrant because of the relatively high prices that the region's many farm and mineral commodities are fetching. Thus, fiscal conditions in these states are also the most stable.

The weakest regions are the industrial Midwest and the West. The West is still suffering from a housing downturn, as prices have not leveled off yet. The Midwest is working through the restructuring of the auto industry and losses among other durable goods producers. The extreme slack in the labor markets in these regions is evident in unemployment rates that are among the highest in the nation. Further, labor market slack in these regions is expanding the fastest, as seen by comparing the number of unemployed persons with the number of job openings. While monthly job openings in the Northeast and South are down by about 30%, they are down by close to 45% in the Midwest and West. For every available job in these two regions, there are about seven unemployed persons.

The first areas to rebound will be those in the Plains and South Central regions that had little or no housing cycle and that stand to benefit from renewed firmness in commodity prices. Other regions with some near-term growth potential are those with high exposure to rebounding export markets. The weak dollar and accelerating economies in Asia and Latin America are supporting tech-producing areas such as Silicon Valley, Austin, Washington DC and Boston. Strong global demand for semiconductors and telecommunications equipment and other electronics indicates firming global investment spending. Makers of core capital goods in parts of the Midwest and Southeast also stand to benefit as global demand picks up for industrial machinery, electrical equipment, and advanced farm machinery.

As global trade picks up, centers of transport and logistics will be among the first to benefit. The support to the economy will be modest, however, as there is plenty of capacity to handle any near-term uptick by air, rail or trucking hubs. Nevertheless, the transport hubs of Los Angeles, Houston, Miami, Norfolk, New York and northern New Jersey, Chicago, and Kansas City could experience at least an increase in hours worked, generating additional local income and ultimately additional employment.

Housing still drags

The pace of recovery will be hindered by deeply correcting housing markets in California, Florida and the Southwest. Although downward pressure on housing prices continues nearly everywhere as pipelines in all regions fill with mortgages heading toward foreclosure, the impact is the greatest in these areas, since they were the most overextended during the boom. Comparing California with Florida, however, illustrates some differences that raise the probability that Florida's housing recovery will lag behind California's, where several factors indicate stronger underlying fundamental demand. California's population growth is stable at nearly 1% per year, while according to estimates from the University of Florida, Florida's population may actually be falling. The long period of extremely high house prices in California had generated pent-up demand. Affordability was less of an issue in Florida. Finally, California's housing market is much less dependent on investors or retired buyers, who may very well have capital tied up in homes elsewhere that they are unable to sell.

Elevated risks for house price declines also remain in the Greater New York area and in the Pacific Northwest, where price downturns have been late in coming and affordability remains poor. The pace of price declines and the timing of a bottom for these markets will depend on job and income growth. Risks to the labor market in Seattle are to the downside, as profitability in the commercial aerospace industry is poor and future payroll cuts are still possible. Weak income growth in New York has taken the steam out of its housing market, and while employment is falling, its labor market downturn has not been as severe as expected because hiring among wealth management firms has offset some cuts in securities and banking. Risks here remain to the downside.

Plains, Southeast in the lead

The earliest return to growth will appear in the central Plains and the Southeast, excluding Florida. Global demand for commodities, replenishment of inventories, and export trade lend support to these areas, which are experiencing a relatively mild business cycle. Education and healthcare support the Midwest and the Northeast, but within these regions, restructuring of the auto industry and financial services will delay the visible return to growth via new job creation.

A number of uncertainties cloud the near-term outlook. The delay of regulatory reform for financial services may make the industry less willing to take on new risk or expand its payrolls. And of course, if regulatory changes result in more cautious business planning, centers of financial services may face a longer period of slow growth.

Seeking comparative advantage

More broadly, there is a risk that a number of industries that expanded aggressively across many metro areas, both large and small and in all regions, may pull back to the metro areas where their comparative advantage is the greatest. This movement could mean a return to greater variation of economic performance across the regions of the country. Financial services may very well reconcentrate in places such as New York, San Francisco, Chicago, and other traditional finance centers. Slower consumer spending could mean that secondary centers of transport and warehousing are slow to regain their vitality. Retailing, similarly, may no longer be a generator of jobs in many small to midsize areas unless population and demographic trends warrant it.

The resurgent growth of China, India, and other developing economies could generate unexpected upside potential, particularly if the dollar falters further in coming quarters. Makers of technology products and services would benefit. But over the long term, the benefit could extend beyond those industries to inject additional comparative advantage to industries such as commercial aerospace in Seattle and its suppliers in Southern California, the Midwest and New England. The resurgence of emerging economies also generates upside potential for the many manufacturers in the Midwest and Southeast, where export market penetration had risen sharply during the past business cycle.